Energy ETFs outperforming others

U.S. energy shares are the most in demand by investors, outpacing other sectors this year and in line for their best quarterly performance in more than three years.

Exchange-traded funds devoted to energy stocks have attracted $6.68 billion in fresh money this year, the most among 12 categories in the $289 billion market for sector ETFs, according to data compiled by Bloomberg. Shares outstanding in the largest energy fund have grown 23 percent this quarter, the fastest since oil prices plunged amid the 2008 recession.

Investors are recognizing that energy producers, particularly major oil companies such as Exxon Mobil Corp. and Chevron Corp., are poised for higher profits because of lower costs, greater efficiency and an improved outlook for crude prices amid unrest in Iraq, said Brian Youngberg, a St. Louis-based analyst for Edward Jones.

“Market expectations for the price of oil over the next year has risen the most in two years,” Youngberg said. Oil prices drive energy stocks.''

ETFs, which allow investors to trade shares that represent a broader index of stocks, are gaining popularity as a way to invest in industries such as oil and natural gas without having to buy multiple equities. The pace of investment in energy industry funds has sped in the past few months, attracting $4.19 billion in new money since April 1, compared with $7.18 billion in total over the prior three years.

State Street's $12.4 billion Energy Select Sector SPDR Fund, largest of the energy exchange-traded funds, has led all 496 sector-focused funds this quarter by attracting $2.19 billion through Wednesday.

The investor interest comes as the 45-company Standard & Poor's 500 energy index outpaces the broader index this year, rising 12 percent through Wednesday compared with the S&P 500's 6 percent. The energy index had lagged the larger basket of stocks for the prior six calendar years.

The average 12-month trailing price-to-earnings ratio for the S&P energy index is 16.77, cheaper than the 17.93 of the broader index, according to data compiled by Bloomberg.

“The very underperformance you've seen over the last couple of years is one of the issues,” said Jason Gammel, a London- based analyst for Jefferies Group LLC. “It's become relatively cheap compared to the overall market.”

Some investors had disparaged energy companies for spending too much looking for oil offshore and in U.S. shale formations, Gammel said.

“We're beginning to see signs companies are reining in the overspending that they've been doing the last three or four years,” Youngberg said. “That's something investors have been clamoring for.”

Spending by major oil companies this year will decline 0.4 percent, James C. West, an analyst for Barclays PLC, wrote in a semiannual forecast published June 18. West had forecast a 2.9 percent spending increase in December.

Cost cutting spread to the majors after shareholder activism at smaller oil companies such as Hess Corp., West wrote. Hess slashed annual spending by 17 percent, about $1 billion, after shedding $12 billion of assets.

Exxon, the largest publicly traded oil company, has cut its annual spending target by $1 billion, while Chevron expects to spend $2 billion less than last year. Lower spending combined with higher prices would build cash flow, profit and potentially dividends, Youngberg said.

Energy companies also have raised shareholder payouts while the spread on debt has narrowed, making stocks more attractive by comparison.

Average dividend yield, cash paid to shareholders as a percentage of the stock price, is 2.03 percent, according to data compiled by Bloomberg. Yield on Exxon Mobil shares is 2.7 percent and for Chevron 3.26 percent. The yield on U.S. 10-year Treasury bonds this year had fallen 47 basis points to 2.56 percent through Wednesday.

“The energy sector is unique,” said David Mazza, ETF strategist for State Street Corp. “Investors might be looking for the ability to have attractive dividend returns and also be more buffered from increasing inflation. The energy sector with its correlation to energy prices fits that quite well.”